One of the biggest stories as of late has been the massive decline in the Canadian dollar against the U.S. dollar. The loonie is currently sitting slightly off an 11-year low, and is trading at only US$0.76. The implications of this for Canadian stocks can be huge, and Canadian companies with assets in the U.S., or revenues in U.S. dollars will see significant boosts to their earnings and their share price due to the Canadian dollar’s weakness (and in fact, many already have).
While it is never wise to buy or sell a stock entirely because of exchange rates, buying high-quality companies with the right exposure to the U.S. dollar in this environment can provide a major tailwind to an already solid company.
While the loonie has already weakened significantly against the U.S. dollar, there is little evidence that parity will return anytime soon. Part of the reason is because the loonie’s weakness has been due the U.S. dollar’s strength. The U.S. economy is growing at a faster rate than other advanced countries, and with interest rates set to rise, global investors are likely to return to the U.S., which will further inflate demand for the dollar.
Canadian investors can profit from this trend by purchasing high-quality names like Agrium Inc. (TSX:AGU)(NYSE:AGU) and Toronto-Dominion Bank (TSX:TD)(NYSE:TD). Here’s why.
How Canadian companies benefit from a weak loonie
There are a few major ways that Canadian-listed companies can see earnings and share-price growth due to a weak Canadian and strong American dollar. TD Bank and Agrium each benefit differently.
First, Canadian companies with assets in the United States, but report their results in Canadian dollars stand to benefit. For these companies, the American assets would generate revenues and profits in U.S. dollars, but since the results are reported in Canadian, the earnings would receive a boost when translated back to Canadian dollars.
Companies that export products in U.S. dollars, but have costs in Canada stand to benefit as well. An example of this would be some oil or commodity companies. Commodities are priced in U.S. dollars, and companies with operations in Canada would see a boost in earnings relative to costs as those earnings are converted to Canadian dollars.
Finally, Canadian-listed companies that report in U.S. dollars with most of their earnings in U.S. dollars also stand to benefit. While having any Canadian earnings would harm these companies since they report in U.S. dollars, their Canadian-listed shares still stand to benefit. This is because the share price is in Canadian, but the earnings are in U.S. dollars, which in turn makes them more valuable. The end result is that as the Canadian dollar declines, the Canadian-listed shares will increase in value.
Agrium and TD represent solid ways to benefit from these factors
Agrium reports in U.S. dollars, but has a majority of its costs in Canada. This is especially true for the company’s potash segment, for which 100% of its production is generated in Canada, but sales for potash are received in U.S. dollars. This has a positive effect on potash margins. Agrium’s nitrogen segment also has a majority of production in Canada and benefits from lower operating costs as a result.
Most importantly, Canadian-listed Agrium shares are seeing a huge boost due to the declining dollar, since earnings are reported in U.S. dollars. Canadian-listed Agrium shares are up 17% year-to-date compared to 9% for NYSE-listed Agrium shares. Adding Agrium to your portfolio is not only an opportunity to benefit from tailwinds from a weak dollar, but also an opportunity to benefit from Agrium’s explosive dividend, free cash flow, and earnings growth over the next several years as it completes several capital projects.
Toronto-Dominion Bank is also a smart way to play the weak loonie. TD is the most of American of the Big Five Canadian banks thanks to its U.S. Personal & Commercial segment. This segment currently has 1,300 branches in the U.S. compared with only 1,165 in Canada, and also holds its TD-Ameritrade discount broker. About 28% of net income comes from this segment, and since TD reports in Canadian, these earnings will receive a significant boost when translated back to Canadian.
TD and Agrium allow you to own high-quality companies while benefiting from the weak loonie. Instead of trying to profit from weakness in the Canadian economy, however, another approach is to simply look south and benefit from the accelerating U.S. economy by owning U.S. names directly.
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Fool contributor Adam Mancini has a position in Agrium Inc. Agrium Inc. is a recommendation of Stock Advisor Canada.